Why are renewal rates important? I always like to think about things in over simplified apartment building examples that translate across geographies, business types, cultures. Imagine you have two buildings, in building A – you have 10 tenants. There are lawyers & doctors that work within the neighborhood, always pay on time, and will never move away. In building B, you have 10 renters, but they all work at a seasonal resort, the summer batch is different than the winter batch. These dynamics force you to constantly advertise in the local paper for new renters when the seasons change. You also never really know how many vacant months you’ll have over the coming years – but with building A, you know every month the rent will come like clockwork for years and years. Clearly you would prefer to buy building A versus building B. Higher renewal rate = higher value. We think software works the same way.
How should I calculate the renewal rate? There are a lot of methodologies and each has pros & cons. A quick overview
- Client Retention: This is a logo metric
- Net Revenue Retention:
- Gross Revenue Retention:
Example: We have 6 customers who spend $60, $50, $40, $30, $20, $10 for a total of $210. Say 3 and 4 drop out. The gross retention rate = (60+50+20+10) / 210 = 66.7%. Say over that time, each of the 4 customers that stayed spent an additional $10 on new products. The net retention rate = (60+50+20+10) + (10*4) / 210 = 86%.
When should you recognize churn? When the customer “clicks” cancel or at the end of the billing cycle? It is most representative to recognize churn at the end of that customer’s billing period, given they have paid for usage up until that point. To get a better understanding of the user behavior, you should probably track when they “click” cancel.
What are good retention rates? Anything above 90% is great, anything above 85% is good, and 80-85% is okay. Anecdotally, the best answer is forever. Did you know that banks still use mainframe software to process credit card transactions? Or that airlines still use mainframes to book flights? (Okay you’ve probably experienced that one.) There are also some solutions that solve problems so well that customers will stay through their whole careers. I recently met a dentist that had used the same piece of software for 25 years!
What can you do to improve your retention rates? Focus on customer success. There is a strong correlation behind net promoter scores & retention rates so think about your experience with great companies. Solve a tough problem & deliver an exceptional customer experience, and the retention rate will follow.
What are the renewal rates of some companies I know? Check it out